Two Important Factors Now Working Against Stocks
Geopolitical events are overtaking the stock market’s near-term trading action, which was all about speculation over the Federal Reserve and what Chairman Ben Bernanke will do regarding quantitative easing.
Based on what transpires in Syria, the equity market is ripe for more declines; realistically, the stock market has been extremely lofty this year, considering the economic news and the prospects of reduced monetary stimulus.
Confirming the overly positive disposition of the stock market has been the performance of the NASDAQ Composite Index, which previously lagged behind the Dow Jones Industrial Average until it recently confirmed the market’s uptrend.
Over the last 12 months, the Russell 2000 index has been the strongest of the main stock market indices. This is a classic secular bull market indicator, but everything’s been turning downward this week.
Obviously, geopolitical events skew the certainty the capital markets crave. Second-quarter earnings season was underwhelming, with the exception of balance sheets, which continue to be top-notch for most Dow Jones components.
Looking at the equity market constructively, many of its leading blue chips were very strong until the beginning of August. Then speculation about the potential reduction in quantitative easing and monetary stimulus, in general, took the froth out of some of these leading positions, including Johnson & Johnson (JNJ) and PepsiCo, Inc. (PEP).
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I repeat my view that there is very little action to take in this market, particularly as it pertains to long-term blue-chip investors. The stock market has come off a very large uptrend in a short period of time, and it’s been due for a full-blown, material correction for a number of months now.
In terms of risk capital, the biotechnology sector continues to offer some of the strongest returns. (See “Old Adage of ‘Don’t Fight the Fed’ Stands, but Big-Cap Earnings Uninspiring.”)
With all the geopolitical events transpiring and the positive disposition speculators have for oil prices, small- and mid-cap oil and gas stocks have been appreciating nicely. This is a specific stock market sector with more legs this year. Big oil continues to have production problems.
But this is very much a market that isn’t for sowing new positions. Prices have moved so much since the beginning of the year with very modest earnings growth that in a prolonged period of falling share prices would be normal trading action.
Near-term, geopolitical events rule capital markets. But the Federal Reserve’s actions later in September will still solidify the stock market’s year-end disposition.
Followed by third-quarter earnings, there is a lot of uncertainty on the horizon. From my perspective, tolerance for investment risk is on the decline. The stock market has been extremely resilient this year. It is a leading indicator and is very much ahead of Main Street.
The action is in capital markets, and reflation continues. The velocity of money is beginning to gather a little strength. The reflation of asset prices remains the current reality.